The Price of Everything

Bankervision analyzes customer feedback about overall bank satisfaction and comes up with some interesting clues. Of particular interest:

• Customers care most about good rates - People who rate their bank well also rate the prices well.

I think James’ analysis is correct, but I draw different conclusions. In experience with more extensive data, some customers (and deposit products) are more rate-sensitive than others, but many customers barely care about rate. How can the data sets be resolved?

1. Customers may care most about service, but falsely remember a poor rate when surveyed. This may be because interest rates are the most easily quantified component of customer value. I suspect a low correlation between rate satisfaction (and perceived rates) and actual interest rates.
2. Poor rates may be a problem customers live with (much like certain cancers are often discovered after people die of old age). The majority of reviews are from current customers, so they are describing issues they would like changed, but not enough to switch for.
3. Customers lie. They (correctly) view rates as easily modified and service, convenience as nearly immutable. Customers get better service quickly only by switching banks and better rates by convincing bankers to give better rates. Banks can only change service and convenience levels through glacial change.

Bank customers hope that if they say they care most about rate, all banks will give better rates. In reality, customers are best served in the long term by matching prices to true rate sensitivity. This rewards banks which have dropped their depositors’ rate sensitivity (through convenience, service, etc.). Ultimately, customers that care about rates get good rates. But everyone receives maximized value.

No matter what your customers’ price sensitivity, it’s important to correctly measure and then build into correct equations for total long-term profitability. If bank customers are very price-sensitive, your prices should approach the wholesale alternative cost of funds. If customers don’t care, rates should approach the “embarrassment” rate.

Update: Financial services marketing guru Ron Shevlin advances the argument that bank customers are only inadvertently misleading (in comments).

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Remember when Bono advised Treasury Secretary O’Neill on debt relief? We bankers have been plotting revenge ever since.

Listen to the stylish rhythms of the MBNA/BoA merger set to U2’s One. This catchy ditty may never make it to the top of the charts. Still, over 100,000 people have watched it already.

We’ve got Bank One on the run
What’s in your wallet? It’s not Capital One

Bankers: If you want to preserve your reputation for probity, check your videocameras at the door.

Update: The original was pulled from YouTube.  Here’s a cover from a comedy club with the same words:

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Banking used to be a pretty simple game. Take in deposits from some customers and loan the same money to other customers. And earn your profit on the difference.

The last 30 years have changed the game. Deposit gathering is now divorced from smart investing. If your deposits aren’t enough to fund your loans and investment portfolio, you can make up the shortfall on the wholesale market.

Why is this such a big deal?

Extra investments let the bank increase its risk and returns. If you are following solid risk management strategies (diversification and careful analysis of the risks in your portfolio), the bank is far safer than during the old days. The extra boost in risk lets the bank make more money, but still prevent meltdowns.

More important from a pricing perspective, balance level no longer must be a goal in itself. The deposit pricing committee can focus on optimal rates (high enough to keep balances around, low enough to increase profit margin) and let the treasurer ensure the bank is fully funded.

The bank doesn’t have to pay up for local balances. Of course, the rest comes at higher, wholesale rates. But the bank can keep its total costs lower than if the bank raised all the deposits locally.

The FDIC Banking Review comes through again. The Liability Structure of FDIC-Insured Institutions: Changes and Implications:

The study gives terrific information about the wholesale market. It outlines the major funding strategies and shows how important wholesale funds have become.

I would only disagree with the authors on the impact of the structural changes. I think the increased reliance on wholesale funds has a lot more to do with rate strategy than risk.

Hat tip: Steve Janaszak

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Hire slow, fire fast. This classic advice is powerful and I’ve only violated it to my regret. Far better (for everyone on the team) to wait to bring on someone amazing. Even if that means overwork in the short run.

The opposite is true for tools - especially certain types of technology. Tool overcapacity is good.

Read more »

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We all still miss traveling down US 1 and thumping Princeton - a tradition since 1869. But it’s pretty exciting watching Rutgers beat Louisville from Tumulty’s in New Brunswick. Upstream, red team!

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The current received wisdom of the internet? The Long Tail. Amazon and Ebay are providing value because they offer enormous choice. True enough, but only when it’s easy for customers to find what they need.

My local diner - the choices are tasty, but it’s overwhelming:

Read more »

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Fair Isaacs has seen it all.  FICO’s James Taylor takes off from a recent piece from TowerGroup’s Kathleen Khirallah by placing it in a larger context. 

The key element to get started is that Banks need more finely grained segmentation for their pricing. Most of them already do a great job of segmentation for risk, credit line management and so on but they lack this approach in pricing. They don’t have a comprehensive pricing strategy that reflects the sensitivities and desires of customers.

While traditional segmentation works pretty well for loans (customers expect individualized pricing), this can be tricky in deposits - and banks should tread carefully.  Read more »

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Remember the end of It’s a Wonderful Life? The entire town came together to help Jimmy Stewart’s Building and Loan because he was a keystone of the community.

My town’s banker, Walter Deutsch (Unity Bank):

This mythical age of banking may have never truly existed, but we seem to be moving further away. As banking moves online and credit scoring replaces reputation, banks sacrifice the human touch.

As community dissolves, banks lose. We are still highly trusted, but there are fewer places to apply that trust. Read more »

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Amazon recently announced Elastic Compute Cloud - a service that allows outsiders to rent computing power from Amazon’s huge server farms. 

BNP just signed a deal with IBM to share computing capacity.  Bankervision links the dots to show where this is going:

Let’s assume that BNP does inter-day, processing only, and that the run takes all night. Therefore they use that capacity for 12 hours. In other words, the facility costs them $3000 a day. There are 52 weeks in a year, but markets are open for only 5 days of each week. Ignoring holidays, we have to do 260 runs a year, for an  annual cost of $780,000. Over three years, that would amount to the grand sum of $2.34 million dollars. For 2500 machines available on demand.

Something like 90% of Amazon’s hardware capacity is designed for the Christmas crunch and sits idle the rest of the time.  Their marginal costs in renting this capacity out are near zero.  They are actively looking for customers (like banks) to rent this capacity cheap.

Banks will have to work out security implications, but it’s well worth it.  Computing in the Amazon cloud allows several million in savings beyond the already terrific IBM/BNP deal.

Computing in the cloud will produce major cost savings/hardware improvements for the banks that take advantage.  Ultimately, there could be a few big competitors facing the same costs, concerns, and prices.  My guess: it won’t take long for IBM’s initial stab to grow to many more jointly-shared servers.  And ultimately, IBM could charge Amazon for Christmas cloud coverage.

A big potential win for banks and even good green marketing.  In an era where Google consumes more power than aluminum smelters, using computer hardware more efficiently translates into reduced dependency on foreign oil.

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Microsoft is famous for “dogfooding” their software - they use their own software internally.  This demonstrates Microsoft’s confidence in their own products.  Even more important, dogfooding makes sure the software teams experience the same pain as real customers. 

We dogfood here.  And banks are starting to do the same - or at least the hedge funds that own them.  Tom Brown and the rest of Second Curve Capital recently explored all of the bank branches in their Manhattan neighborhood.  From the NYT: Read more »

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